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11.1 Discounted Cash Flow Analysis
Authors: G P HorganPublication: NZIF Forestry Handbook, Volume Section 11 – Forestry business and investment, pp 1, Dec 2023
Publisher: New Zealand Institute of Forestry
Abstract: Discounted cash flow (DCF) analysis is a tool that allows the individual to look at the value of a project/investment or determine the relative values of several projects, based on projected future cash flows. It does this by taking the cash flow of a project through time and condensing it into a single lump-sum figure (Chen 2020). As the technique’s name implies, the condensation technique involves a weighting of the various cash flow items rather than a simple summation. The weighting given to each item depends on where, in the life of the project, that item occurs. Weightings given to costs and/or benefits occurring early in a project’s life are greater than those given to more distant costs and benefits. When DCF analysis is used as a basis to compare the relative worth of two or more projects, that comparison is made based on the size of the lumpsum, with biggest being best. Although DCF, and the focus of this article, is with the direct monetary impacts of a project, the concept of discounting and weighting the cost and benefits of a project depending when in the project’s life they occur can be applied to more than just a monetary analysis. It can be extended to include costs and benefits that have not been monetarised, indirect effects, options and even existence values.